Sunday, February 05, 2012

Of Course Economists Cannot Predict. Why Would You Think They Could?

But one of the conclusions of economics is that prediction is literally impossible. At least public prediction. If I publicly announce a policy of inflation, to increase growth, and people believe me, then the inflation is anticipated and the real growth effects are just about zero. Note that it doesn't matter whether the "announcement" is made by the Fed-o'-the-One-Bullet (as Angus has pointed out repeatedly) or by an economist who "knows" what the Fed is going to do.

Economic forecasts would only be made, or listened to, by people who don't know any economics. So, sure, this sort of study confirms that. But the conclusion is not that economists are bad at predicting. It's that prediction is literally impossible, because of strategic reaction.

Suppose I publicly predict you are going to throw "rock" in an RPS game, and your opponent believes me. If you WERE going to throw rock, you would know that your opponent would be throwing paper. So you would switch to scissors.

It's worse than Heisenberg. It's worse than Hawthorne. In terms of the observer/predictor affecting the phenomenon being studied. It's economics! You can't possibly predict things. Now, if someone pays me, I'll come up with a "prediction." But I won't believe it.

Who should you be laughing at? The morons who pay economists to come up with predictions. You might as well hire meteorologists.

John Cochrane in a Cato Journal made a distinction between *unconditional* predictions (which everyone is bad at, including economists), and *conditional* predictions ("if X happens, then Y") which economists are fairly good at. Of course, the latter sort of predictions do not make for good copy or soundbites, so you never see/hear them.

I am not sure this is entirely accurate. I believe that in a free market it is literaly true that the future is all but entirely unpredictable. The only exception being very localized knowledge giving a few lucky people an insight not known to the crowd. (Hey, I just invented a CO2 powered car. Do you think this might make a difference?)

However, in a centrally planned economy, I do believe that the future is more predictable to the extant that one can predict the governments actions. This is often not so hard as the incentives politicians face are well known. Even though the crowd knows as well, the central planners just keeps pushing in one direction.

For example, I predict the government will continue to run deficits and that this will only end due to a crisis. I do not believe I know when this will happen or whether the crisis will be an Icelandic style default or a Zimbabwe style hyperinflation.